A Special Needs Trust, A Mistake, A Near Disaster.

By: R. Kurtz “Kurt” Holloway, Esq.

An elderly client whom I’ll refer to as Fred asked me to review a trust he had been managing for over 30 years. The trust had been established by a relative to care for a special needs child. Overall Fred had done a good job of investing the trust funds. I did notice that the account statements were addressed in an unusual fashion for a trust; Fred’s name appeared as guardian for the beneficiary, not as trustee. When I asked Fred about this, he did not know why, just that they had always appeared that way. This was a red flag. I needed to know more.

The trust was designed to allow the special needs beneficiary to receive Medicaid to pay for her skilled nursing and other health care while preserving the trust income for expenses to enhance her quality of life. If any trust principal was left after she died, those funds were to go to her siblings. This type of trust is often referred to as a special needs trust.

I recommended that we obtain all of the actual account registration documents from the financial services company to be sure the account was established correctly. I also asked Fred for copies of the last five years tax returns for the trust. What I discovered was shocking. While, there had indeed been a special needs trust written as part of the will of the deceased relative, when she died and her estate was settled, the funds were distributed from the estate to Fred as guardian for the special needs beneficiary not as trustee. Fred never understood that he needed to obtain a federal tax ID number for the trust and register the accounts in his name as trustee, not guardian. For all these years, the funds were not titled as trust funds but as funds of the special needs beneficiary with Fred as guardian. There was a very real potential for financial disaster here since the beneficiary had received Medicaid for many years for her care. All of the funds were subject to a claim by Medicaid for reimbursement during the beneficiary’s lifetime if it was determined that she did not meet the test for minimal assets. Also, any remaining funds in the estate of the disabled beneficiary after she died would also be subject to a claim for reimbursement by Medicaid. If the claim was successful, and it likely would be, the funds would be wiped out and the siblings of the special needs beneficiary could have successfully sued Fred personally for loss of the funds since he had not registered them properly in the trust.

I researched the 30 year old estate file and discovered that the lawyer who handled the estate had made a mistake at the time of distribution and Fred did not understand the problem. It was clear to me what should have happened but I had to figure out how to fix the problem 30 years later and preserve the trust funds. I decided that we needed to file a special petition with the County Orphans Court explaining the problem and requesting that the court issue an order declaring the funds be deemed trust funds - effective 30 years ago. There was no precedent for this. Would we be successful?

We were. After a hearing, the Orphan’s Court Judge issued an order decreeing that the funds had been part of the trust for the past 30 years. The potential, financial disaster was averted. The money could continue to be used for the special needs beneficiary during her lifetime and the principal was preserved for the other beneficiaries.

There are several important lessons here. A trustee should seek legal advice before taking on his duties so he knows how to legally and properly establish the trust accounts. The trustee needs to be sure the attorney is knowledgeable in estate and trust laws. A trustee should seek sound legal and financial advice annually to comply with the Uniform Trust Code or risk personal liability.

About the authorKurt Holloway

R. Kurtz “Kurt" Holloway was admitted to practice in 1977 in Pennsylvania and later in the Eastern District Federal Court of Pennsylvania. Mr. Holloway’s areas of concentration are Estate Planning, Estate Administration, Elder and Disability Planning, Real Estate Law, Zoning and Land Development, Business Law and Municipal Law.

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